I’m sure you know already–so excuse me if I’m repeating–that ROI is intended as a tool to compare different investments. The way ROI is often used in the IT industry is a bit different. Here’s an example.
Suppose that we’re looking at a new order entry system with warehouse management capability. The system costs (say $100,000). Now we analyze our ROI:
We have 4 warehouse employees, based on history, we believe that we can eliminate 1 of the 4. Salary plus benefits are $25,000.
We are also being charged by large customers when we do partial shipments or make errors in orders. Based on history, we think that warehouse management can save us 75% of these charges, or another $25,000.
Next, we’ve observed that salespeople often wander the warehouse to check stock levels. This is necessary because inventory quantities in the current system are not accurate. Salespeople estimate that they spend about 2 hours per day or 25% of their time doing this. We will eliminiate all of this for 10 salespeople, and estimate that with only a 10% increase in their daily number of orders, we will increase sales by $250,000 per year.
We could go on and list several other items. Some of them like “One-time inventory reduction,” we could actually assign a dollar value to. Others, like “Increase customer satisfaction,” will be hard or impossible to assign dollars to. All of these should be listed.
As you can see from above, we expect $300,000 return from a $100,000 investment. Most people would say this is a good project from a monetary standpoint. This is as far as most ROI analysis goes.
The system is implemented. Some of the ROI is realized (hopefully). Much of it is forgotten.
Bluntly, we’re using ROI wrong. It’s fine to do this analysis–in fact, I recommend it. The important thing here is not the amount of the return (as most people think). This might be a good project if we could only identify $90,000 in ROI, or even $50,000.
In reality, most of the benefit from a new system may be hard to quantify. Intangible benefits like customer service increase, sales management effectiveness increase, better inventory investment, increased correct order fills, reduced stockouts, etc. are difficult to assign hard numbers to (although some try).
The important things about this analysis are (a) there is ROI (tangible and intangible), (b) it provides a focus for implementation of the system, and (c) it gives a basis for measuring the effectiveness of the project.
For more on implementation with ROI, see Rule # 3.